MSIN0181: Understanding the Information Economy
Topic 3: Perfect Competition and Auctions
Four Market Structures:
▪ Perfect competition: is a type of market structure where many firms sell similar products, and
profits are virtually non-existent due to fierce competition.
▪ Monopolistic competition: characterizes a market in which many firms offer products or services
that are similar, but not perfect substitutes.
▪ Oligopoly : is a market structure in which a few firms dominate
▪ Monopoly: can be considered an extreme result of free-market capitalism and are often used to
describe an entity that has total or near-total control of a market.
Perfect Competition
In perfect competition identical products are sold, prices are set by supply and demand, market
share is spread to all firms, buyers have complete information about products and prices, and there
are low or no barriers to entry or exit.
Imperfect competition occurs when at least one condition of a perfect market is not met.
Forms a benchmark of the most competitive arrangement of firms
Key market features:
• Interchangeability: little differentiation
• Many of them
• Same price: no price competition
The definition:
• Many firms
• Each firm has a very small slice of the market, and cannot, therefore, influence market
price.
o Firms are Price Takers
• No differentiation and no difference in consumer tastes
• Producers and consumers have perfect information
• Costless entry and exit to the industry
The implication:
• Firms will make economic profits of zero
o Firms will cover the opportunity cost of being in the industry and no
more
• Opportunity cost = cost of next best alternative
• Zero (economics profits) = minimum return from investment with the same risk rate
The Marginal Firm is indifferent between staying in the industry and leaving. Makes just enough to
cover its opportunity cost.
, Demand is driven by what consumers are willing to pay, demand curve is also average revenue curve.
Marginal cost incurred by selling one extra unit equals the marginal revenue that you got from selling
that extra unit at the profit maximising quantity.
Equilibrium for the marginal firm:
Firm behaviour after a price change
• Firms can't set their own price in perfect competition
• Exogenous: determined from outside the model
Topic 3: Perfect Competition and Auctions
Four Market Structures:
▪ Perfect competition: is a type of market structure where many firms sell similar products, and
profits are virtually non-existent due to fierce competition.
▪ Monopolistic competition: characterizes a market in which many firms offer products or services
that are similar, but not perfect substitutes.
▪ Oligopoly : is a market structure in which a few firms dominate
▪ Monopoly: can be considered an extreme result of free-market capitalism and are often used to
describe an entity that has total or near-total control of a market.
Perfect Competition
In perfect competition identical products are sold, prices are set by supply and demand, market
share is spread to all firms, buyers have complete information about products and prices, and there
are low or no barriers to entry or exit.
Imperfect competition occurs when at least one condition of a perfect market is not met.
Forms a benchmark of the most competitive arrangement of firms
Key market features:
• Interchangeability: little differentiation
• Many of them
• Same price: no price competition
The definition:
• Many firms
• Each firm has a very small slice of the market, and cannot, therefore, influence market
price.
o Firms are Price Takers
• No differentiation and no difference in consumer tastes
• Producers and consumers have perfect information
• Costless entry and exit to the industry
The implication:
• Firms will make economic profits of zero
o Firms will cover the opportunity cost of being in the industry and no
more
• Opportunity cost = cost of next best alternative
• Zero (economics profits) = minimum return from investment with the same risk rate
The Marginal Firm is indifferent between staying in the industry and leaving. Makes just enough to
cover its opportunity cost.
, Demand is driven by what consumers are willing to pay, demand curve is also average revenue curve.
Marginal cost incurred by selling one extra unit equals the marginal revenue that you got from selling
that extra unit at the profit maximising quantity.
Equilibrium for the marginal firm:
Firm behaviour after a price change
• Firms can't set their own price in perfect competition
• Exogenous: determined from outside the model
